Aggregate Demand and Aggregate Supply

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Recommended: The relationship between unemployment and inflation in the long run

Topic 12: Aggregate Demand and Aggregate Supply
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1. Introduction

2. Three Key Facts about Economic Fluctuations

2.1 Fact 1: Economics Fluctuations are Irregular and Unpredictable

2.2 Fact 2: Most Macroeconomic Quantities Fluctuate Together

2.3 Fact 3: As Output Falls, Unemployment Rises

3. Explaining Short-Run Economic Fluctuations

3.1 How the Short Run Differs from the Long Run

3.2 The Basic Model of Economic Fluctuations

4. The Aggregate Demand Curve

4.1 Why the Aggregate Demand Curve Slopes Downwards

4.2 Why the Aggregate Demand Curve May Shift

5. The Aggregate Supply Curve

5.1 Why the Aggregate Supply Curve is Vertical in the Long Run

5.2 Why the Aggregate Supply Curve May Shift

5.3 A New Way to Depict Long Run Growth and Inflation

5.4 Why the Aggregate Supply Curve Slopes Upward in the Short Run

5.5 Why the Short Run Aggregate Supply Curve May Shift

6. Two Causes of Economic Fluctuations

6.1 The Effects of a Shift in Aggregate Demand

6.2 The Effects of a Shift in Aggregate Supply

7. Summary

2. Three Key Facts about Economic Fluctuations

Economic activity fluctuates from year to year.
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In most years production of goods and services rises. On average over the past 50 years, production in the U.S. economy has grown by about 3 percent per year. In some years normal growth does not occur, causing a recession.

- A recession is a period of declining real GDP, falling incomes, and rising unemployment.
- A depression is a severe recession.

2.1 Fact 1: Economic Fluctuations are Irregular and Unpredictable

- Economic fluctuations are irregular and unpredictable.
- Fluctuations in the economy are often called the business cycle.

2.2 Fact 2: Most macroeconomic variables fluctuate together

· Most macroeconomic variables that measure some type of income or production fluctuate closely together.

· Although many macroeconomic variables fluctuate together, they fluctuate by different amounts.

2.3 Fact 3: As output falls, unemployment rises

- Changes in real GDP are inversely related to changes in the unemployment rate.

- During times of recession, unemployment rises substantially.

3. Explaining Short Run Economic Fluctuations

- Most economists believe that classical theory describes the world in the long run but not in the short run.

3.1 How the Short Run Differs from the Long Run

- Changes in the money supply affect nominal variables but not real variables in the long run.

- The assumption of monetary neutrality is not appropriate when studying year-to-year changes in the economy.

3.2 The Basic Model of Economic Fluctuations
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Two variables are used to develop a model to analyze the short-run fluctuations: - The economy’s output of goods and services measured by real GDP.

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